I Warned Krugman This Would Happen

In a post written on June 14th, I warned Krugman that it was foolish to play politics; he should just advocate the policy that is most effective:

As I read Krugman, his attitude seems to be something like the following (which is my interpretation, not his words):

“Ah, what a pity it is that these conservative central banks aren’t willing to commit to a modest amount of inflation. That would be the easiest way to boost AD, and the least costly. But as they aren’t willing to adopt effective policies, we can assume that monetary policy is ineffective. Now let’s move right along and look at fiscal policy.”

At this point Krugman directs his moral outrage at the conservative knuckleheads in Congress who won’t accept anything bigger than a measly $800,000,000,000 stimulus package, which he thinks is woefully inadequate.

In my view Krugman is mixing science and advocacy in a very misleading and inappropriate way. When he evaluates central banks, he seems to take a deterministic, scientific, and clinical attitude, as if studying a colony of ants. (I assume that for entomologists there is no “should.” The only question is how ants behave.) Central banks are assumed to be impervious to public pressure. On the other hand his stance toward fiscal policy is much more normative. Now he is an advocate, he’s part of the game, passionately calling for more stimulus. But I don’t see how this makes any sense. If we are going to take a deterministic view of things, it seems likely that Congress is also far too conservative to implement the sort of spending that Krugman advocates. Indeed, hasn’t that already been shown? Couldn’t one just as reasonably say: “Since Congress clearly won’t do what it takes, we must fall back on the Fed as our only hope for the sort of stimulus that the economy needs.”

I view my own role as that of an advocate; I am trying to change the consensus view of economists about the causes of this crisis, and the most effective solutions. I want to describe the most effective solutions, not those I think are politically feasible. We need to change the political climate, if that is the problem. Indeed if policy is deterministic, then all hope is lost. I hope that my ideas will eventually filter down to policymakers.

Krugman is 100 times more influential than I am. With his NYT column, and his ideological allies in the White House, he is arguably the most influential economic pundit in the world. And he is also known (for better or worse) for his moral outrage over perceived injustices. In many cases I think he goes a bit over the top. But here it is just the opposite. I am outraged over Krugman’s lack of outrage over current monetary policy.

In this new post Krugman concedes that monetary policy is the best way of reducing the high unemployment rate, and fiscal policy is second best. But he’s no longer working the fiscal policy route. Instead, he is now advocating the third best option, wage subsidies and job sharing:

In reality, we haven’t even gotten anywhere near (i): the conventional wisdom is still that any rise in expected inflation above 2 percent is a bad thing, when it’s actually good.

So some readers have asked why I’m not making the same arguments for America now that I was making for Japan a decade ago. The answer is that I don’t think I’ll get anywhere, at least not until or unless the slump goes on for a long time.

OK, so what’s next? The second-best answer would be a really big fiscal expansion, sufficient to mostly close the output gap. The economic case for doing that is really clear. But Washington is caught up in deficit phobia, and there doesn’t seem to be any chance of getting a big enough push.

That’s why, at this point, I’m turning to what I understand perfectly well to be a third-best solution: subsidizing jobs and promoting work-sharing.

Call it constrained optimization, where the constraint comes from the power of bad ideas.

This is a foolish game to play. There is zero chance Congress would spend enough money on these “third-best” options to make a dent in unemployment. God only knows what his 4th best option is.

Krugman should have been advocating monetary stimulus all along. The real problem is that his allies in government; Obama, Pelosi, Reid, etc., don’t even know the first best option exists. And how could they? How often is monetary stimulus mentioned in columns written by liberal pundits? If they realized that they were about to get decimated in the 2010 midterm elections because a few nutty right-wingers at the Fed think the economy needs less stimulus, not more, there would be outrage in Congress and the Administration. They’d be marching down to the Fed (metaphorically of course, to avoid looking heavy-handed) and make it very clear that the Fed needs to produce robust growth in aggregate demand or else there will be big changes in the way the Fed is set up and regulated. If they don’t seem “receptive,” then quietly tell the FOMC; “Think the Dodd bill is bad? You can’t even imagine how much worse we can make it.”

Would this work? Go read the history of 1937. (Why does that year keep coming up, anyway?) Google the phrase “a switch in time saved nine,” and you’ll see that unelected third branches of government have a lot less power than you might assume.

Here’s what I find so bizarre. Almost the entire political establishment thinks we need much more AD. Even Republicans that argue against the fiscal stimulus don’t say the problem is that it will boost AD; rather they make the opposite argument, they claim it will “fail” where failure is defined as a lack of AD, a continuation of the recession. Meanwhile the people at the Fed are perfectly aware of Woodford’s argument that I discussed in a recent post. They know that they could boost AD by setting a higher inflation target. They simply don’t want to. And yet almost the entire political establishment thinks Bernanke is doing all he can from the monetary end.

How can we get the people in power to understand what is going on? There is one person who understands what monetary policy can do, who understands Woodford’s views, who understands Svensson’s views, and who also has a news column read by every single influential person in government. Do I even need to tell you who I am talking about?

Scott Sumner has taught economics at Bentley University for the past 27 years.

He earned a BA in economics at Wisconsin and a PhD at University of Chicago.

Professor Sumner's current research topics include monetary policy targets and the Great Depression. His areas of interest are macroeconomics, monetary theory and policy, and history of economic thought.

Professor Sumner has published articles in the Journal of Political Economy, the Journal of Money, Credit and Banking, and the Bulletin of Economic Research.